Last week, I wrote how risk of a 5% pullback was rising, and this week, uncertainty remains high enough to suggest selling rallies in sectors with demand headwinds so that cash can be used to buy better businesses where demand tailwinds are strongest.
My caution stemmed from a surge in our overbought indicator, which gauges optimism and fear by calculating the percentage of institutional-quality stocks in our universe trading 5% or more above the 200-day moving average (DMA). In January, 55% of our universe was 5% or more above its 200 DMA, prompting us to warn of weakness, and then, a 2% reading in March alerted us to risk/reward significantly favoring buyers.
In discussing this indicator on May 22, I wrote,
"If we get above 30%, I'll begin recommending selling broken businesses, and if we get above 40%, then I'll start recommending selling rallies to reduce margin exposure."
That's what's happened. Last week's reading near 30% was the first neutral risk/reward reading since March, and earlier this week, we told members a reading near 40% meant it was time to play defense.
Source: Top Stocks for Tomorrow.
To be clear, readings can linger above 40%, but that doesn't mean we should be pressing bets by maxing out margin or buying stocks with impaired business models. Instead, upgrading portfolios with high-quality companies on down days makes the most sense.
And there should be plenty of volatility to allow you to proactively plan entries and exits. There's plenty of cash on the sidelines, supporting the notion investors will buy the best stocks on sale, but there's also plenty of question marks, suggesting caution is warranted. COVID-19 cases are climbing, global gross domestic product estimates are likely to be cut when the IMF meets on June 24, and permanent job loss tied to the pandemic shutdown could still cause a spike in credit delinquencies and defaults.
It also shouldn't be ignored that there's a seasonality headwind associated with the fast-approaching end of the second quarter. Following big gains, programmatic investors have little incentive to step up and take on risk in the final two weeks of June.
All of those risks could be offset by fiscal and monetary stimulus, though. The Federal Reserve appears to have no problem with leaving the credit spigot wide open, saying Wednesday it doesn't anticipate any rate increases until 2022. Similarly, the Treasury Department and members of Congress continue to float the idea of additional stimulus.
It also shouldn't be ignored that historically, odds favor the S&P 500 Index ETF (SPY) being higher thirty trading days following a down 3% day. Since 1999, the SPY has had 80 down 3% plus days. It's been higher 30 trading days later 62.5% of the time, returning an average and median 1.78% and 2.34%, respectively.
Source: Top Stocks For Tomorrow.
Overall, competing forces - easy credit versus dismal economic data - makes it important to focus on buying great businesses in the best sectors.
The top sectors to buy
Our system ranks major market sectors and industries weekly by market cap by aggregating individual stock scores for our members.
This scoring system is explained more here, but to put it simply, our ranking incorporates forward earnings growth expectations, historical trends in reporting earnings that beat Wall Street estimates, insider buying, short-term, and long-term institutional money flow, forward valuation relative to historical valuation, contra-trend short interest analysis, and quarterly seasonality over the past decade.
Grading stocks in this manner and then, scrutinizing scores by basket, allows us to see what market "ponds" are best for fishing.
Currently, the best large-cap sectors are healthcare, technology, and services. Consumer goods, services, and technology are top rated in mid-cap, while financials, technology, and healthcare offer upside in small-cap.
Energy remains notably weak across all market caps and except for small cap, financials are also worrisome. There will be a time when the risk reward associated with oil stocks and banks, including credit issuers, will improve, but until then, the groups are likely to expose you to nail-biting volatility. Given oil production and credit default uncertainty, it makes sense to focus on other stocks. However, if you need exposure to those sectors, then consider industries that are high-scoring within them. For example, the industry ranking we shared with members this week suggests financial data and natural gas plays offer upside within those groups.
Source: Top Stocks for Tomorrow
The top stocks to buy
Stocks follow earnings over time, insiders only buy for one reason; money flow reflects institutional optimism or pessimism, and seasonal patterns often rhyme, so high scoring stocks in our research offer investors a great source for new investment ideas.
This week, we shared over 100 stocks with members, including the following top-rated stocks within these select sectors.
|Best Scoring||6/11/2020||4 WEEK MA|
|FMC Corporation||(FMC)||BASIC MATERIALS||AGRICULTURAL INPUTS||100||87.5|
|Eastman Chemical Company||(EMN)||BASIC MATERIALS||CHEMICALS||85||63.75|
|Albemarle Corporation||(ALB)||BASIC MATERIALS||SPECIALTY CHEMICALS||85||75|
|Ashland Global Holdings Inc.||(ASH)||BASIC MATERIALS||CHEMICALS- MAJOR DIVERSIFIED||85||61.25|
|The Sherwin-Williams Company||(SHW)||BASIC MATERIALS||SPECIALTY CHEMICALS||85||88.75|
|Ecolab Inc.||(ECL)||BASIC MATERIALS||SPECIALTY CHEMICALS||85||86.25|
|Polaris Inc.||(PII)||CONSUMER GOODS||RECREATIONAL VEHICLES||105||96.25|
|The Hain Celestial Group, Inc.||(HAIN)||CONSUMER GOODS||PACKAGED FOODS||105||106.25|
|Brown-Forman Corporation||(BF.B)||CONSUMER GOODS||BEVERAGES||95||81.25|
|Lear Corporation||(LEA)||CONSUMER GOODS||AUTO PARTS||95||73.75|
|Planet Fitness, Inc.||(PLNT)||CONSUMER GOODS||LEISURE||95||73.75|
|McCormick & Company, Incorporated||(MKC)||CONSUMER GOODS||PACKAGED FOODS||90||92.5|
|NIKE, Inc.||(NKE)||CONSUMER GOODS||FOOTWEAR & ACCESSORIES||90||81.25|
|Pool Corporation||(POOL)||CONSUMER GOODS||LEISURE||90||93.75|
|Herbalife Nutrition Ltd.||(HLF)||CONSUMER GOODS||PACKAGED FOODS||90||87.5|
|Cabot Oil & Gas Corporation||(COG)||ENERGY||OIL & GAS E&P||105||103.75|
|Delek Logistics Partners, LP||(DKL)||ENERGY||OIL & GAS MIDSTREAM||90||68.75|
|Cheniere Energy Partners, L.P.||(CQP)||ENERGY||OIL & GAS MIDSTREAM||85||63.75|
|EQT Corporation||(EQT)||ENERGY||OIL & GAS E&P||80||81.25|
|KKR & Co. Inc.||(KKR)||FINANCIALS||ASSET MANAGEMENT||100||75|
|Marsh & McLennan Companies, Inc.||(MMC)||FINANCIALS||INSURANCE BROKERS||100||80|
|Brown & Brown, Inc.||(BRO)||FINANCIALS||INSURANCE BROKERS||100||83.75|
|Visa Inc.||(V)||FINANCIALS||CREDIT SERVICES||100||87.5|
|PRA Group, Inc.||(PRAA)||FINANCIALS||CREDIT SERVICES||100||86.25|
|Lakeland Financial Corporation||(LKFN)||FINANCIALS||BANKS-REGIONAL||95||73.75|
|First Financial Bankshares, Inc.||(FFIN)||FINANCIALS||BANKS-REGIONAL||95||71.25|
|Intercontinental Exchange, Inc.||(ICE)||FINANCIALS||FINANCIAL DATA & STOCK EXCHANGES||95||85|
|Moody's Corporation||(MCO)||FINANCIALS||FINANCIAL DATA & STOCK EXCHANGES||95||93.75|
|Mastercard Incorporated||(MA)||FINANCIALS||CREDIT SERVICES||95||77.5|
|Acadia Healthcare Company, Inc.||(ACHC)||HEALTHCARE||SPECIALIZED HEALTH SERVICES||115||92.5|
|Medpace Holdings, Inc.||(MEDP)||HEALTHCARE||DIAGNOSTICS & RESEARCH||110||108.75|
|DaVita Inc.||(DVA)||HEALTHCARE||SPECIALIZED HEALTH SERVICES||105||88.75|
|Triple-S Management Corporation||(GTS)||HEALTHCARE||HEALTHCARE PLANS||105||91.25|
|Penumbra, Inc.||(PEN)||HEALTHCARE||MEDICAL DEVICES||105||83.75|
|AbbVie Inc.||(ABBV)||HEALTHCARE||DRUG MANUFACTURERS||100||100|
|Patterson Companies, Inc.||(PDCO)||HEALTHCARE||MEDICAL DISTRIBUTION||100||80|
|UnitedHealth Group Incorporated||(UNH)||HEALTHCARE||HEALTHCARE PLANS||100||92.5|
|McKesson Corporation||(MCK)||HEALTHCARE||MEDICAL DISTRIBUTION||100||87.5|
|The Ensign Group, Inc.||(ENSG)||HEALTHCARE||LONG-TERM CARE FACILITIES||100||80|
|Exponent Inc.||(EXPO)||INDUSTRIALS||CONSULTING SERVICES||105||92.5|
|Old Dominion Freight Line, Inc.||(ODFL)||INDUSTRIALS||TRUCKING||105||103.75|
|Kratos Defense & Security Solutions, Inc.||(KTOS)||INDUSTRIALS||AEROSPACE & DEFENSE||105||90|
|Kadant Inc.||(KAI)||INDUSTRIALS||PAPER & PAPER PRODUCTS||100||87.5|
|Marten Transport, Ltd.||(MRTN)||INDUSTRIALS||TRUCKING||100||98.75|
|Dover Corporation||(DOV)||INDUSTRIALS||DIVERSIFIED MACHINERY||95||72.5|
|Waste Connections, Inc.||(WCN)||INDUSTRIALS||WASTE MANAGEMENT||95||75|
|SiteOne Landscape Supply||(SITE)||INDUSTRIALS||INDUSTRIAL DISTRIBUTION||95||93.75|
|Energizer Holdings, Inc.||(ENR)||INDUSTRIALS||ELECTRICAL EQUIPMENT & PARTS||90||70|
|MGM Growth Properties LLC||(MGP)||REITS||REIT-DIVERSIFIED||95||72.5|
|American Tower Corporation (REIT)||(AMT)||REITS||REITS-SPECIALTY||95||87.5|
|CoStar Group, Inc.||(CSGP)||REITS||REAL ESTATE SERVICES||95||86.25|
|Medifast, Inc.||(MED)||SERVICES||PERSONAL SERVICES||105||91.25|
|Equifax Inc.||(EFX)||SERVICES||CONSULTING SERVICES||105||96.25|
|Strategic Education, Inc.||(STRA)||SERVICES||EDUCATION & TRAINING SERVICES||100||98.75|
|Stitch Fix Inc.||(SFIX)||SERVICES||SPECIALTY RETAIL||100||93.75|
|Ulta Beauty, Inc.||(ULTA)||SERVICES||SPECIALTY RETAIL||100||71.25|
|Dollar General Corporation||(DG)||SERVICES||DISCOUNT STORES||95||96.25|
|Casey's General Stores, Inc.||(CASY)||SERVICES||GROCERY STORES||95||76.25|
|Chegg, Inc.||(CHGG)||SERVICES||EDUCATION & TRAINING SERVICES||95||100|
|Alarm.com Holdings, Inc.||(ALRM)||TECHNOLOGY||SOFTWARE-APPLICATION||105||103.75|
|Zillow Group, Inc.||(Z)||TECHNOLOGY||INTERNET CONTENT & INFORMATION||105||103.75|
|Broadcom Inc.||(AVGO)||TECHNOLOGY||SEMICONDUCTOR- INTEGRATED CIRCUITS||100||81.25|
|CoreLogic, Inc.||(CLGX)||TECHNOLOGY||INFORMATION TECHNOLOGY SERVICES||100||100|
|Coupa Software Incorporated||(COUP)||TECHNOLOGY||SOFTWARE-APPLICATION||100||103.75|
|EverQuote||(EVER)||TECHNOLOGY||INTERNET CONTENT & INFORMATION||100||98.75|
|Guidewire Software, Inc.||(GWRE)||TECHNOLOGY||SOFTWARE-APPLICATION||100||78.75|
|New Relic, Inc.||(NEWR)||TECHNOLOGY||SOFTWARE-INFRASTRUCTURE||100||100|
|Dominion Energy, Inc.||(D)||UTILITIES||UTILITIES-DIVERSIFIED||105||96.25|
|Terraform Power||(TERP)||UTILITIES||UTILITIES-INDEPENDENT POWER PRODUCERS||105||96.25|
|NextEra Energy, Inc.||(NEE)||UTILITIES||UTILITIES-REGULATED ELECTRIC||95||83.75|
|NRG Energy, Inc.||(NRG)||UTILITIES||UTILITIES-INDEPENDENT POWER PRODUCERS||85||66.25|
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